Managing Your Money as a Freelancer

As a freelancer, it’s easy to get your personal and business expenses mixed up. But this can lead to problems when it’s time to do your taxes or if you need to prove your income. In this article, we’ll explore why it’s essential to separate your personal and business expenses, and provide a step-by-step guide on how to do it.

Why Separating Personal and Business Expenses Matters

When you work for yourself, you are responsible for managing your finances, complying with tax laws, and making business decisions. Mixing personal and business expenses can lead to three significant problems:

• It makes taxes more complicated and expensive
• It’s challenging to determine if your business is profitable
• It increases the risk of being audited or having trouble getting a loan or mortgage

What is Cost Segregation?

Cost segregation is the process of separating your personal and business expenses. It’s not about creating a complicated system or hiring an accountant; it’s about creating a clear boundary between your personal and business finances. This boundary needs to be consistent, documented, and easy to maintain.

Step 1: Open a Dedicated Business Bank Account

The first step in separating your personal and business expenses is to open a dedicated business bank account. This will help you keep your business income and expenses separate from your personal ones. You can open a business checking account with a traditional bank or an online bank. The key is to ensure that all customer payments go into this account and all business expenses are paid from it.

Step 2: Use a Separate Card for Business Expenses

Using a separate card for business expenses will help you track your expenses and avoid mixing personal and business purchases. You can use a debit or credit card, and it’s essential to choose a card that provides clear monthly statements and basic protections.

Step 3: Decide How to Pay Yourself

As a freelancer, you need to decide how to pay yourself from your business income. You can choose to transfer a fixed amount regularly, take owner withdrawals based on cash flow, or use a percentage of sales. The key is to be consistent and clearly mark the payments as owner withdrawals or salary equivalent.

Step 4: Categorize Expenses as You Go

Categorizing your expenses as you go will help you track your spending and make tax time easier. You can use accounting software, a spreadsheet, or a bank-integrated tool to categorize your expenses. It’s essential to review your transactions regularly and ensure that you’re not missing any expenses.

Step 5: Handle Mixed-Use Spending Carefully

Some expenses, such as internet and phone plans, may be used for both personal and business purposes. In these cases, you can estimate the business use percentage and deduct that amount. It’s essential to document how you arrived at the estimate and ensure that it’s consistent.

Step 6: Automatically Save Receipts and Evidence

Saving receipts and evidence of your expenses is crucial in case of an audit. You can use a receipt scanner, a folder, or an attachment from a banking app to store your receipts. It’s essential to make it a habit to record receipts immediately and ensure that they match the transactions and categories.

Step 7: Review Your Finances Monthly

Reviewing your finances monthly will help you stay on top of your expenses, ensure that you’re not mixing personal and business finances, and make informed business decisions. You can ask yourself three questions:

• What did the company spend money on this month?
• Have personal expenses crept in?
• Is the company generating enough to fund future expenses and pay me?

Common Mistakes to Avoid

Some common mistakes freelancers make when separating personal and business expenses include:

• Waiting until income "feels real" to separate finances
• Overcomplicating the system
• Assuming separation only matters in case of an audit

Getting Started

To get started, you can follow these steps:

1. Open a separate checking account for your business
2. Order or assign a card for business expenses only
3. Redirect all customer payments to the business account
4. Choose an easy method to pay yourself
5. List your top five recurring business expenses
6. Establish a basic cost categorization system
7. Create a receipt capture habit that takes less than a minute
8. Review and clean transactions from the last 30 days
9. Identify all mixed-use expenses and estimate appropriate percentages
10. Schedule a monthly 20-minute money review on your calendar

Conclusion

Separating personal and business expenses is essential for freelancers to manage their finances effectively, make informed business decisions, and reduce the risk of audits. By following the steps outlined in this article, you can create a simple and consistent system that will help you stay on top of your finances and grow your business with confidence. Remember, separating personal and business expenses is not about being "official" or acting bigger than you are; it’s about respecting your work enough to see it clearly.